Role of Different Channels in Moderating The Impact of Oil Shocks on Iraq’s Macroeconomy: An MSH-VAR Approach

This study examines the effect of oil price shocks on Iraq’s macroeconomy through the ‎channels of monetary policy, fiscal policy, and the exchange rate, using the Markov ‎Switching Heteroskedastic Vector Autoregression (MSH-VAR) model. The results ‎indicate that oil price shocks have significant impacts on macroeconomic variables. In ‎the fiscal channel, higher oil prices directly increase the budget deficit and gross ‎domestic product, but in unstable regimes, these effects are short-term and accompanied ‎by stronger inflationary pressures. In the monetary channel, the interest rate has only a ‎limited role in transmitting oil shocks, reflecting the weakness of monetary structures in ‎Iraq’s economy. The exchange rate channel also plays a marginal role in transmitting ‎shocks, likely due to the central bank's exchange rate stabilization policies. Impulse ‎response functions confirm that the effects of oil shocks are stronger and more ‎persistent in stable regimes, whereas in unstable regimes, positive effects are more ‎limited and inflationary pressures are stronger. These findings underscore Iraq’s ‎significant dependence on oil revenues and the need for coordinated fiscal and ‎monetary policies to mitigate vulnerability to oil price shocks‎.